Tensions between European Union Law and Private International Law – impact on cross-border mobility of companies

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Introduction

This essay intends to give a brief analysis on the relationship between European Union Law and Private International Law, particularly the impact on cross-border mobility of companies in the European space[i].

The Treaty on the Functioning of the European Union (TFEU) explicitly recognises freedom of establishment for companies. However, nowadays, a number of obstacles still persist regarding companies’ mobility as a result of the coexistence of the incorporation and the real seat doctrine. This is also due to the way in which the European Court of Justice (ECJ) case law has dealt with the free movement of companies.

It is argued that it would be welcome if the European legislator could take action, mitigating national private international law contrary to European fundamental freedoms[ii].

Dualism of rules

To determine which company law is applicable to a particular company, there are two existing theories: the real seat theory and the incorporation theory.

The real seat theory[iii] provides that the personal law of the company is the law of the country where it has its real seat (its principal place of business). Instead, according to the incorporation theory[iv] the company and its relationships are subjected to the law of the country where it has been incorporated, i.e. registered.

The major difference between the two theories is their effect on the cross-border transfer of the company seat, both from the home and host state perspective. The real seat theory brings limitations to the cross-border transfer of the real seat by making the company subject to different national legal order each time its real seat moves to another state[v]. Likewise a company from an incorporation state that wishes to move its administrative seat to a real seat state may not be recognized as a company in this host state, without dissolution in the home state.

The incorporation theory allows it by accepting in its legal order companies that are formed in other states without requiring a reincorporation. For the latter, it does not matter where the company’s real seat is located: once a company fulfils the formation requirements in its state of incorporation, it is recognised everywhere, but always subjected to the rules of the incorporating state.

As noted, the possibility of a cross-border transfer depends on Member States company’s private rules[vi]. This divergence between systems reflects the difference between a more liberal national private law approach and a more conservative side that poses real obstacles in terms of companies mobility[vii], requiring a physical connection between companies incorporated under their law and their territory.

The ECJ case law

The conflict between the rules on the personal law of companies and European Union freedom of establishment has a rather long history from the first case Daily Mail to the most recent Vale decision[viii].

In the Daily Mail[ix] case, the Court ruled that the freedom of establishment did not confer to companies a right to transfer their central management and control to a Member State while retaining its status as incorporated in the home Member State. It was noted that companies, unlike natural persons, are creatures of the law and exist only by virtue of the national legislation that determines their incorporation and functioning. This decision was considered by a majority that the real seat doctrine and the Treaty rules in freedom of establishment may coexist, leading to a restrictive understanding of Treaty provisions[x].

The developments continued with Centros[xi] however with certain nuances. Centros Ltd. was registered in the UK. Its shares were owned by a Danish couple who wanted to establish a branch in Denmark, through which they would conduct all their business activities. Danish authorities denied their application on the grounds that Centros Ltd. was, in fact, seeking to establish a principal establishment in Denmark. The Court adopted a different approach though, providing that the practice of a Member State refusing the registration of a company’s branch formed in accordance with the law and having its registered office in another Member State created an obstacle to the freedom of establishment[xii]. This was the beginning of an important turn. Henceforth, any barriers by the host Member State against companies incorporated in another, requiring setting up a secondary establishment there, are prohibited[xiii]. This even if the host Member State is the place where the company runs all its business activities.

Centros was followed by Überseering[xiv] judgment. This case concerned a private limited company pretending to transfer its actual centre of administration from Netherlands, an incorporation state, to Germany, a real seat state, but continuing to be ruled by Dutch law. Germany had refused legal standing to the company based on the fact that it had not followed the required formation formalities under German law. In its decision, the Court recognised the right of a corporation formed in an EU Member State to move its real seat from its state of incorporation to another EU member state without losing its legal status as a corporate entity under the law of its origin state. Since then any obstacles from a host Member State in such a transfer (if the home state allows) are forbidden[xv].

Inspire Art[xvi] was also a revolutionary cross border transfer seat case. Inspire Art was a company established in the UK, but doing business solely in its Dutch branch. The Court did not allow the Netherlands to impose legal obligations on companies that were incorporated in another Member State but conducts their business activities only in Netherlands. In this case, more comparable to Centros, the ECJ decided, once again, in favour of the freedom of establishment[xvii].

After the trilogy, and revisiting Daily Mail, comes Cartesio[xviii] judgment. Cartesio was the opportunity for the Court to finally elucidate the exit situations by deciding the possibility of Member States of origin to obstacle a cross-border transfer of seat and to continue this liberalisation of EU company law. Cartesio was a Hungarian company that intended to transfer its real seat to Italy but wished to remain ruled by Hungarian law. However, Hungarian law did not allow this, stating that a company has first to be dissolved in Hungary and then reincorporated under Italian law. Surprisingly, the Court did not overrule its Daily Mail decision, which allows the national law to restrict the seat transfer. In fact, the Court resuscitated the real seat theory, apparently ‘killed’ by the Centros/Uberseering/Inspire Art trilogy. Nonetheless, in Cartesio the Court opened the possibility of conversion of an existing company incorporated under the law of one Member State into a company incorporated under the law of another, i.e., the transfer of the registered office without needing to wind up and reincorporate[xix].

The Vale[xx] judgement was the latest case in this regard. The case, following the footsteps of Cartesio, concerned a company, Vale, established under Italian law. It wanted to be removed from the Italian register and later incorporated under Hungarian law, although recognizing its Italian predecessor as its legal predecessor, meaning all the former rights and obligations would be transferred to the new company. The Hungarian commercial court, pointing out that conversions under Hungarian law only applied to domestic situations, rejected this. The Court found Hungarian rules unacceptable because they treated companies differently whether the conversion was domestic or of a cross-border nature.[xxi] The Court, though, didn’t go further and reaffirm that companies exist only by virtue of the national law. Member States have the power to define the connecting factor required of a company to be regarded as a company under its national law[xxii]. Once more the door was opened to change the scope of the right of establishment, once again the door was closed with no impact.

A new directive in Cross-Border Seat Transfers

At the present time, if a company is incorporated in a Member State open to companies’ mobility it could transfer its seat freely in the home state perspective, if not such operation will trigger a company loss of legal personality. The Court clearly distinguishes exit and entry situations, and we should argue that freedom of establishment is only applicable in this latter case[xxiii].

This situation is strange considering the scope of article 49 and 54 of TFEU[xxiv] and the European legislator as well as the Court seems to be unable to solve the problem in a clear-cut manner.

However, despite the Cartesio and Vale decisions with the Centros/Uberseering/Inspire Art decisions regulatory competition has emerged[xxv]. The decision where to incorporate could, from now on, be grounded on suitability considerations concerning each Member State company law standards’. Every host Member State, despite following the real seat theory, were faced with this new status quo and challenged to make its company law more competitive[xxvi].

Based on the current scenario we should argue that the adoption of European legislation dealing with cross-border transfer would be necessary and there have been some unsuccessful attempts to provide it. Such legal instrument should allow companies to transfer their registered office or real seat to another Member State without needing to reincorporate, including provisions avoiding abusive transfers, safeguarding shareholders, creditors and employees rights[xxvii].

The first draft of a Directive was prepared by the Commission itself in 1997, but in 2007 the Commission announced that it had decided not to pursue the adoption of a 14th Company Law Directive[xxviii]. The reasoning of the Commission stands on the perception that the SE regulation and the Cross-Border Mergers Directive would provide the legal means to effectuate a cross-border transfer. However these instruments are limited and should be considered as complex ways of transferring the registered office of a company, requiring costly and multiple operations in comparison with a Directive[xxix].

Recently, in 2012 the Parliament has adopted another resolution with recommendations to the adoption of a Directive and in 2013 the DG Internal Market launched a public consultation. The majority of respondents stressed the urgency of a directive on this subject. However, so far, the decision to promote company mobility is still left to the ECJ.

Conclusion

Both the Cartesio and Vale cases did not bring the awaited positive outcome of stating clear rules on cross-border-transfer of the seat. Their decisions call attention for the inevitability of a “de-facto” harmonisation[xxx]. Case law of the ECJ only covers a few scenarios, distinguishing exit and entry cases, leaving too many questions unanswered. Furthermore, it seems that the Court accepts incorporation theory but it still respects the real seat theory.

It is tempting to say that it would be naive to continue believing in this ongoing process of shaping rules from Court decisions. The inertia of the European legislator is creating barriers to doing business across Europe, leading to legal uncertainty. Such problems might be solved by implementing secondary law, namely through the coming into force of the 14th Company Law Directive on companies cross-border seat transfer. A future Directive should clarify the ambit of the scope of freedom of establishment in the internal market, assessing clearly in what conditions free movement of companies should be facilitated.

[i] In this context cross-border means the moving of the company real seat from one Member State to another without needing to wind up and reincorporate.

[ii] For an overview see: CATHERINE BARNARD, The Substantive Law of the EU: The Four Freedoms, 3th ed., Oxford University Press, 2010.

[iii] Portugal, Spain, Italy, Germany, France are examples of real seat states. Also known as siège réel theory or Stiztheorie.

[iv] United Kingdom, United States of America, Switzerland, Ireland, Denmark and Netherlands are incorporation states.

[v] CHRISTIAAN TIMMERMANS, “Impact of EU Law on International Company Law” in European Review of Private Law, n.º3, Kluwer Law, 2010, p. 552.

[xv] NICOLE ROTHE, “Freedom of Establishment of Legal Persons within the European Union: An Analysis of the European Court of Justice Decision in the Überseering Case” in American University Law Review, 53, n.º5, 2004, p. 1134.

[xxi] In Vale the Court extended the concept of freedom of establishment by including cross-border conversion situations in the host member state when such conversions are allowed domestically in that state.

[xxii] ANTÓNIO GARCIA ROLO, “Completing the freedom of establishment – The case for a Directive on cross-border transfers of registered offices of companies in the European Union. Perspectives for legislative develoments” in Revista de Direito das Sociedades, n.º2, 2015, p. 378.

[xxiv] Article 49 of TFEU provides that restrictions on the freedom of establishment of nationals of a Member State in another host Member State are prohibited. The second paragraph states that freedom of establishment includes setting up and managing companies and firms within the meaning of article 54 of TFEU, which provides that companies should be treated in the same way as natural persons who are nationals of Member States.

[xxv] Legal scholars question if this will lead to an improvement in the quality of company law: to a ‘race to the top’ or to the ‘bottom’ of legal standards. For an overview see: HEINE, Klaus, “Regulatory Competition between Company Laws in the European Union: the Überseering Case”, in Intereconomics, 2003; ROBERT R DRURY, “The regulation and recognition of foreign corporations: responses to the ‘Delaware Syndrome’”, in The Cambridge Law Journal, vol. 57, 1988, Cambridge University Press.

[xxvii] REFLECTION GROUP, Report of the Reflection Group on the Future of EU Company Law p. 24;

[xxviii] Despite the fact that adoption of a directive was a short term priority of the Commission Action Plan on Modernising Company Law (2003) and three consultations by the Commission showed support for a Directive.

[xxix] Through the SE Regulation the transfer may be realized if a Member State existing company converts or transforms itself into an SE. Subsequently the SE transfers its registered office to another Member State. By means of a cross border merger the company wishing to transfer its registered office to another Member State would be absorbed by a company previously set up in the Member State of destination. In this regard see FRADA DE SOUSA, supra note 8, p. 54-74.

[xxx] As Advocate General Poiares Maduro stated on Cartesio “the effective exercise of the freedom of establishment requires at least some degree of mutual recognition and coordination of these various systems of rules”.

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